If you’re involved in lower middle market M&A, you probably know that traditional, Buy-side Representations and Warranty (R&W) insurance is not available to cover most transactions because of their small size.
However, in recent years, alternative transactional liability coverage has come onto the scene for deals under $20M:
Transaction Liability Private Enterprise, or TLPE.
TLPE is Sell-Side insurance. This means the Seller is the policyholder (unlike Buy-side R&W coverage where the Buyer is the policyholder). In case of a breach of the Seller representations in the Purchase and Sale Agreement, the Buyer makes a claim against the Seller. The Seller in turn, forwards the notifies the insurer of the Buyer’s demand, where the insurer appoints counsel to represent the Seller and negotiate settlement with the Buyer. Absent TLPE, Sellers are on their own to respond to Buyer’s demands which usually results in forfeiting their escrow.
Sellers also benefit from TLPE coverage as it reduces or eliminates escrow terms, giving them more cash at closing. At $10K to $15K in premium per $1M in Policy Limits, that’s a reasonable exchange for getting rid of escrows.
If you’re involved in an M&A transaction with an Enterprise Value (EV) under $20M – all the way down to $250,000, TLPE insurance makes a lot of sense. And I strongly recommend that as soon as you have your signed Letter of Intent (LOI) that you reach out to a broker experienced with this coverage to get a snapshot of what your TLPE policy would look like and cost.
At Rubicon, we can turnaround a proposal for coverage in two business days. All that’s needed is an application, the target’s financial statements, and the LOI. If the deal is eligible, terms can be available in one or two days; two days if Underwriters need clarification on items.
Although you can secure TLPE insurance even after a transaction is closed (please add link to the piece “TLPE – It’s never too late”, getting in “early” has plenty of advantages.
- Establishing the presence of insurance in the transaction enables parties to by-pass the more contentious elements of negotiating indemnification terms
- Constructive discussions over escrow amounts and allocation of insurance costs can be completed quicker
- Complete coverage terms are available to the parties earlier in the negotiations, so excluded reps can be addressed and avoid “last-minute” surprises.
Although it is a relatively new product, TLPE coverage is increasingly gaining favor among Strategic Buyers and PE firms alike involved in micro-deals. And for good reason…
- Deals can be insured for up to 100% EV. That’s more protection for Buyers than the market escrow account at 10% EV.
- Retention with TLPE in place is $0 for Indemnity payments to the Buyer. This assumes the presence of a .5% EV Buyer’s Basket within the purchase agreement. The Seller is subject to a $20,000 retention that applies to defense costs and expenses only. This helps the Seller keep most of the sale proceeds right after closing.
- The low cost of a TLPE policy, with premiums as low as $10K to $15K per $1M in Policy Limits as compared with Buy-side R&W rates of $35K to $40K per $1M in Policy Limits.
- Underwriting for TLPE is radically simpler and costs less. The Seller completes an application (can we include a link to the application here?), which the Underwriters use to determine risk. There’s no Underwriting fee (savings of $50K). The process is completed in a day or two rather than two to three weeks.
Most importantly, TLPE gives tremendous peace of mind to Sellers knowing they have control of policy placement and coverage terms and know exactly how much of the proceeds of the transaction they are going to keep. Also, Sellers have the knowledge they are not alone in responding to a Buyer’s demand to claw-back their escrow. Without TLPE, Sellers are on their own to face Buyers – often many times their size – armed with substantial legal resources. If you’re a Seller, are you okay with that?
Remember you get the most out of this insurance by acting early. As soon as you have the Letter of Intent, you can contact a broker.
I understand TLPE inside and out, having been involved in several deals using this insurance product as it has rolled out over the last few years.
Please contact me, Patrick Stroth, for more information on TLPE and other M&A insurance options at pstroth@rubiconins.com.